European government bonds hit multi-year highs amid middle east energy shock

European government bonds are experiencing their sharpest selloff since mid-2024 as escalating Middle East tensions push energy prices to multi-year highs. German 10-year Bund yields surged to 2.815% before stabilizing at 2.78%, while 2-year Bunds hit 2.459%, their highest since August 2024. In addition, In the U.K., 2-year gilts jumped 27 basis points to 3.79% over two days, marking the largest move in nearly 18 months.

The selloff reflects a rapid repricing of eurozone inflation expectations, with short-term yields particularly under pressure as markets weigh the potential for ECB policy tightening. Investors who had been long duration on hopes of slower growth and lower yields were forced to unwind positions, amplifying the move.

ECB officials have signaled heightened vigilance, noting that sustained energy-driven inflation could prompt a policy response. Market-implied probabilities of a rate hike in April have risen sharply to around 28%, from near zero just days ago.

Structural pressures, including elevated sovereign supply, shorter debt maturities, and competition from corporate bond issuance, are reinforcing upward pressure on yields. Analysts say duration exposure carries asymmetric downside risk until inflation and energy markets stabilize, making shorter-duration and inflation-linked European bonds relatively more attractive.

European bonds are at a critical inflection point, with the trajectory of the Middle East conflict and ECB messaging likely to drive market direction in the coming weeks.

Benedetta Zimone